Matching Firms, Managers, and Incentives

by Oriana Bandiera, Luigi Guiso, Andrea Prat, and Raffaella Sadun

Executive Summary —
Do different kinds of firm ownership drive the adoption of different managerial practices? HBS professor Raffaella Sadun and coauthors focus on the difference between the two most common ownership modes, family firms and firms that are widely held, namely that have no dominant owner. They find that the greater weight attached by family firms to benefits from control induces a conflict of interest between family-firm owners and high-ability, risk-tolerant managers. Key concepts include:

Family firms systematically offer low-powered incentive contracts to external managers compared with widely held firms. The differences are economically large.

Where incentives are more powerful, managers exert more effort, are paid more, and are more satisfied.

Firms that offer high-powered incentives are associated with better performance. This result holds even after controlling for the type of ownership.

Economies where family firms prevail because of institutional or cultural constraints are also economies where the demand for highly skilled, risk-tolerant managers languishes.

Author Abstract

We provide evidence on the match between firms, managers, and incentives using a new survey that contains information on managers' risk preferences and human capital, on their compensation schemes, and on the firms they work for. The data is consistent with the equilibrium correlations predicted by a model where firms with different ownership structure and managers with different risk aversion and talent match endogenously through incentive contracts. The model predicts and the data support that, compared to widely-held firms, family firms use contracts that are less sensitive to performance; these contracts attract less talented and more risk averse managers; these managers work less hard, earn less, and display lower job satisfaction.
51 pages.